Fair Value

12 Months Ended

Dec. 31, 2020

FAIR VALUE

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined using quoted market prices. However, in many instances, quoted market prices are not available. In such instances, fair values are determined using various valuation techniques. Various assumptions and observable inputs must be relied upon in applying these techniques. GAAP establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.

GAAP permits an entity to choose to measure eligible financial instruments and other items at fair value. The Company has elected the fair value option for its loans held for sale. Electing the fair value option for loans held for sale enables the Company’s financial position to more clearly align with the economic value of the actively traded asset.

The fair value hierarchy for valuation of an asset or liability is as follows:


Level 1:			Valuation is based upon unadjusted quoted prices in active markets for identical assets and liabilities that the entity has the ability to access as of the measurement date.


Level 2:			Valuation is determined from quoted prices for similar assets or liabilities in active markets, from quoted prices for identical or similar instruments in markets that are not active or by model-based techniques in which all significant inputs are observable in the market.


Level 3:			Valuation is derived from model-based and other techniques in which at least one significant input is unobservable and which may be based on the Company’s own estimates about the assumptions that market participants would use to value the asset or liability.

In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon model-based techniques incorporating various assumptions including interest rates, prepayment speeds and credit losses. Assets and liabilities valued using model-based techniques are classified as either Level 2 or Level 3, depending on the lowest level classification of an input that is considered significant to the overall valuation. A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Financial Instruments Recorded at Fair Value on a Recurring Basis

Trading Securities: The fair value of trading securities is reported using market quoted prices and has been classified as Level 1 as they are actively traded and no valuation adjustments have been applied.

Debt Securities: The fair value of investments in debt securities is reported utilizing prices provided by an independent pricing service based on recent trading activity and other observable information including, but not limited to, dealer quotes, market spreads, cash flows, market interest rate curves, market consensus prepayment speeds, credit information, and the bond’s terms and conditions. The fair value of debt securities is classified as Level 2.

Equity Securities: The fair value of equity securities in bank stock was determined using market prices based on recent trading activity and dealer quotes. These equity securities were traded on inactive markets and classified as Level 2. During the year ended December 31, 2020, the equity securities were redeemed by the issuer and, as such, the Company did not hold any equity securities in bank stock at December 31, 2020.

Loans Held For Sale: The fair value of loans held for sale is determined on an individual loan basis using quoted secondary market prices and is classified as Level 2.

Derivatives: The fair value of interest rate swaps is determined using inputs that are observable in the market place obtained from third parties including yield curves, publicly available volatilities, and floating indexes and, accordingly, are classified as Level 2 inputs. The credit value adjustments associated with derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by the Company and its counterparties. As of December 31, 2020 and 2019, the Company has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives as sufficient collateral exists, mitigating the credit risk.

The fair value of the Company's fixed rate interest rate lock commitments are determined using secondary market pricing for loans with similar structures, including term, rate and borrower credit quality, adjusted for the Company's pull-through rate estimate (i.e. estimate of loans within its pipeline that will ultimately complete the origination process and be funded). The Company has classified its fixed rate interest rate lock commitments as Level 2 as the quoted secondary market prices are the more significant input, and although the Company's internal pull-through rate estimate is a Level 3 estimate, it is less significant to the ultimate valuation.

The fair value of the Company's forward delivery commitments are determined using secondary market pricing for loans with similar structures, including term, rate and borrower credit quality, and the locked and agreed to price with the secondary market investor. The Company has classified its fixed-rate interest rate lock commitments as Level 2.

The following table summarizes financial assets and financial liabilities measured at fair value on a recurring basis segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value for the dates indicated:


(In thousands)	Fair Value		Readily Available Market Prices (Level 1)		Observable Market Data (Level 2)		Company Determined Fair Value (Level 3)
December 31, 2020
Financial assets:
Trading securities	$	4,161	$	4,161	$	—	$	—
AFS debt securities:
Obligations of states and political subdivisions	127,120		—		127,120		—
Mortgage-backed securities issued or guaranteed by U.S. government-sponsored enterprises	566,618		—		566,618		—
Collateralized mortgage obligations issued or guaranteed by U.S. government-sponsored enterprises	410,454		—		410,454		—
Subordinated corporate bonds	11,621		—		11,621		—

Loans held for sale	41,557		—		41,557		—
Customer loan swaps	39,627		—		39,627		—
Junior subordinated debt interest rate swaps	562		—		562		—
Interest rate swap on loans	5,169		—		5,169		—
Fixed rate mortgage interest rate lock commitments	608		—		608		—
Forward delivery commitments	311		—		311		—
Financial liabilities:
Trading securities	$	4,161	$	4,161	$	—	$	—
Customer loan swaps	39,627		—		39,627		—
Junior subordinated debt interest rate swaps	10,912		—		10,912		—
Interest rate swap on borrowings	713		—		713		—
Fixed rate mortgage interest rate lock commitments	248		—		248		—
Forward delivery commitments	196		—		196		—
December 31, 2019
Financial assets:
Trading securities	$	3,799	$	3,799	$	—	$	—
AFS debt securities:
Obligations of states and political subdivisions	118,083		—		118,083		—
Mortgage-backed securities issued or guaranteed by U.S. government-sponsored enterprises	463,386		—		463,386		—
Collateralized mortgage obligations issued or guaranteed by U.S. government-sponsored enterprises	325,905		—		325,905		—
Subordinated corporate bonds	10,744		—		10,744		—
Equity securities - bank stock	1,674		—		1,674		—
Loans held for sale	11,854		—		11,854		—
Customer loan swaps	17,756		—		17,756		—
Interest rate swap on loans	483		—		483		—
Fixed rate mortgage interest rate lock commitments	480		—		480		—
Forward delivery commitments	312		—		312		—
Financial liabilities:
Trading securities	$	3,799	$	3,799	$	—	$	—
Customer loan swaps	17,756		—		17,756		—
Junior subordinated debt interest rate swaps	8,187		—		8,187		—
Fixed rate mortgage interest rate lock commitments	18		—		18		—
Forward delivery commitments	15		—		15		—

The Company did not have any transfers between Level 1 and Level 2 of the fair value hierarchy for the year ended December 31, 2020. The Company’s policy for determining transfers between levels occurs at the end of the reporting period when circumstances in the underlying valuation criteria change and result in transfer between levels.

Financial Instruments Recorded at Fair Value on a Nonrecurring Basis

The Company may be required, from time to time, to measure certain financial assets and financial liabilities at fair value on a nonrecurring basis in accordance with GAAP. These include assets that are measured at the lower of cost or market value that were recognized at fair value below cost at the end of the period.

Collateral-Dependent Loans: Expected credit losses on individually assessed loans deemed to be collateral dependent are valued based upon the lower of amortized cost or fair value of the underlying collateral less costs to sell. Management estimates the fair values of these assets using Level 2 inputs, such as the fair value of collateral based on independent third-party market approach appraisals for collateral-dependent loans, and Level 3 inputs where circumstances warrant an adjustment to the appraised value based on the age of the appraisal and/or comparable sales, condition of the collateral, and market conditions.

Servicing Assets: The Company accounts for mortgage servicing assets at cost, subject to impairment testing. When the carrying value of a tranche exceeds fair value, a valuation allowance is established to reduce the carrying cost to fair value. Fair value is based on a valuation model that calculates the present value of estimated net servicing income. The Company obtains a third-party valuation based upon loan level data including note rate, type and term of the underlying loans. The model utilizes two significant unobservable inputs, namely loan prepayment assumptions and the discount rate used, to calculate the fair value of each tranche, and as such, the Company has determined servicing assets are Level 3 of the fair value hierarchy.

Non-Financial Instruments Recorded at Fair Value on a Non-recurring Basis

The Company has no non-financial assets or non-financial liabilities measured at fair value on a recurring basis. Non-financial assets measured at fair value on a non-recurring basis consist of OREO, goodwill and core deposit intangible assets.

OREO: OREO properties acquired through foreclosure or deed in lieu of foreclosure are recorded at net realizable value, which is the fair value of the real estate, less estimated costs to sell. Any write-down of the recorded investment in the related loan is charged to the ACL upon transfer to OREO. Upon acquisition of a property, a current appraisal is used or an internal valuation is prepared to substantiate fair value of the property. After foreclosure, management periodically, but at least annually, obtains updated valuations of the OREO properties and, if additional impairments are deemed necessary, the subsequent write-downs for declines in value are recorded through a valuation allowance and a provision for credit losses charged to other non-interest expense within the consolidated statements of income. As management considers appropriate, adjustments are made to the appraisal obtained for the OREO property to account for recent sales activity of comparable properties, changes in the condition of the property, and changes in market conditions. These adjustments are not observable in an active market and are classified as Level 3.

Goodwill and Core Deposit Intangible Assets: Goodwill represents the excess cost of an acquisition over the fair value of the net assets acquired. The fair value of goodwill is estimated by utilizing several standard valuation techniques, including discounted cash flow analyses, bank merger multiples, and/or an estimation of the impact of business conditions and investor activities on the long-term value of the goodwill. Should an impairment occur, the associated goodwill is written-down to fair value and the impairment charge is recorded within non-interest expense in the consolidated statements of income. The Company conducts an annual impairment test of goodwill in the fourth quarter each year, or more frequently as necessary. Through its assessments, management concluded goodwill was not impaired for the year ended December 31, 2020 or, 2019. Refer to Notes 1 and Note 4 of the consolidated financial statements for further details of the Company's goodwill impairment analyses for these periods.

The Company's core deposit intangible assets represent the estimated value of acquired customer relationships and are amortized over the estimated life of those relationships. Core deposit intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. There were no indications or triggering events for the year ended December 31, 2020 or 2019, that indicated the carrying amount may not be recoverable.

The table below highlights financial and non-financial assets measured and recorded at fair value on a non-recurring basis for the dates indicated:


(In thousands)	Fair Value		Readily Available Market Prices (Level 1)		Observable Market Data (Level 2)		Company Determined Fair Value (Level 3)
December 31, 2020
Financial assets:

Servicing assets	$	1,010	$	—	$	—	$	1,010
Non-financial assets:
OREO	$	236	$	—	$	—	$	236
December 31, 2019


Non-financial assets:
OREO	$	94	$	—	$	—	$	94

The following table presents the valuation methodology and unobservable inputs for Level 3 assets measured at fair value on a non-recurring basis for the dates indicated:

(Dollars in thousands)

Fair Value

Valuation Methodology

Unobservable input

Discount

December 31, 2020

Servicing assets

1,010

Discounted cash flow

Weighted-average constant prepayment rate

19%

Weighted average discount rate

10%

OREO

236

Market approach appraisal of collateral

Management adjustment of appraisal

Estimated selling costs

11%

December 31, 2019

OREO

Market approach appraisal of collateral

Management adjustment of appraisal

18%

Estimated selling costs

13%

The estimated fair values and related carrying amounts for assets and liabilities for which fair value is only disclosed are shown below as of the dates indicated:


(In thousands)	Carrying Amount		Fair Value		Readily Available Market Prices (Level 1)		Observable Market Prices (Level 2)		Company Determined Market Prices (Level 3)
December 31, 2020
Financial assets:
HTM securities	$	1,297	$	1,411	$	—	$	1,411	$	—
Commercial real estate loans(1)(2)	1,344,860		1,307,132		—		—		1,307,132
Commercial loans(2)	374,791		372,194		—		—		372,194
SBA PPP loans(2)	135,026		137,209		—		—		137,209
Residential real estate loans(2)	1,051,324		1,066,991		—		—		1,066,991
Home equity loans(2)	255,957		253,276		—		—		253,276
Consumer loans(2)	19,999		18,102		—		—		18,102
Servicing assets	2,196		1,437		—		—		1,437
Financial liabilities:
Time deposits	$	457,694	$	460,278	$	—	$	460,278	$	—
Short-term borrowings	162,439		162,420		—		162,420		—
Long-term borrowings	25,000		25,442		—		25,442		—
Subordinated debentures	58,331		46,475		—		46,475		—
December 31, 2019
Financial assets:
HTM securities	$	1,302	$	1,359	$	—	$	1,359	$	—
Commercial real estate loans(2)	1,230,983		1,196,297		—		—		1,196,297
Commercial loans(2)	438,716		431,892		—		—		431,892
Residential real estate loans(2)	1,064,532		1,066,544		—		—		1,066,544
Home equity loans(2)	310,356		293,565		—		—		293,565
Consumer loans(2)	25,265		23,355		—		—		23,355
Servicing assets	877		1,496		—		—		1,496
Financial liabilities:
Time deposits	$	595,549	$	594,881	$	—	$	594,881	$	—
Short-term borrowings	268,809		268,631		—		268,631		—
Long-term borrowings	10,000		10,002		—		10,002		—
Subordinated debentures	59,080		50,171		—		50,171		—

(1) Commercial real estate loans includes non owner-occupied and owner-occupied properties.

(2) The presented carrying amount is net of the allocated ACL on loans.

Excluded from the summary were financial instruments measured at fair value on a recurring and nonrecurring basis, as previously described.

The Company considers its financial instruments' current use to be the highest and best use of the instruments.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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